Broomer's Blog

A Thought Worthy of Halloween

Successive UK governments have been driving down corporation tax, Alistair Darling started the trend by reducing the rate by 2%, to 28%, in 2008 and George Osborne was a keen advocate of lower corporation tax during his tenure. Since when the rate has been progressively cut to 19%. This has been sold to the electorate as showing the world that the "UK is open for business".

Interestingly, corporation tax revenues have surged to all time records and while it might be tempting to suggest this is something to do with the voodoo economics behind the Laffer Curve, there are probably more important factors at work. Corporate profitability is currently high with the tax take swelled by the Brexit induced fall in corporate investment and foreign income increasing in value.

This is all rather good news for the UK stock market since EPS directly benefited from the government's largesse. The 2016 Budget promised to further cut the rate to 17% by 2020 and this was confirmed in the Conservative Party manifesto. However, the Tories have won little political capital from these cuts, and this sits in stark contrast with Corbyn's masterstroke to propose jacking the rate back up to 26% to fund what transpired to be very voter enticing spending plans.

The success of this policy, amongst others, has helped Corbyn lead the kamikaze wing of the Labour Party tantalisingly close to power. I know this is Halloween, and if you really want to scare yourself just think that the nation could be back at the polls in a matter of weeks (when I looked in September, Paddy Power was offering 7/1 odds of another General Election within the next 4 months). It only takes an MP or two to cross the benches, or for a death to occur in a marginal constituency for the current Government's majority to vanish. Note that this is the oldest set of sitting MPs for the last 10 Parliaments and there are 28 MPs aged in their 70s...

The immediate political gain from expensive long term strategic corporation tax cuts is not obvious. The howls of pain from the NHS, armed services and other public sector bodies are becoming increasingly loud. A volte face on corporate taxes seems unlikely but perhaps the cunning Hammond might devise something so that what he gives with one hand he grabs back with the other. The cuts made so far have already come with reductions in deductibles and the bank tax "surcharge".

We have been taking a cautious stance on UK assets in our portfolios given the challenges presented by Brexit. To a degree, we are comforted by the international focus of many of our UK equity funds (around 75% of All Share earnings are sourced from overseas). Any fall in sterling cuts the market some slack when bad news hits and acts as a useful safety valve for UK investors.

However, a Corbyn arrival at Number 10 would almost certainly trigger further falls in the pound. But let us not overlook the fact that the 7-9% putative hike in corporation tax would come straight off earnings. In such a scenario, investors will definitely be better off holding international companies listed abroad rather than in London.